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Archive for December 1st, 2003

I received the following question earlier today, giving me a good opportunity to address one more misconception about how to properly utilize the Section 179 deduction.

I got your email off your tax website and have a question about the 179 deduction I can’t seem to find the answer to.

How do I claim the section 179 deduction on property that I have borrowed to buy? Can I use the section 179 form each year to write off only the amount I have paid back on the loan that year or do I have to write off the full amount in the year I put the property into use? And if I write off the full amount in a single year, how do I handle the subsequent years when making payments on the property?

My Response:

As I have contended for decades, most people routinely overpay their taxes because of poor bookkeeping. This specific issue is an area where I frequently see people short changing themselves out of very legitimate deductions. In fact, just a few days ago, I was working on a tax return where the client had booked $5,000 as a down payment on a backhoe and was under the impression that was all that could be claimed for that year. I informed her that we need to set up the full cost of the asset, including the loan for the additional portion of the purchase price, and we can deduct Section 179 based on the full cost.

The Section 179 deduction, as with normal depreciation, is based on the full cost of the asset. How you finance it makes no difference to IRS. It is treated the same whether you pay cash for the full amount or if you put zero money down and take on a loan for the full cost. In fact, for decades, I have been advising people that you can literally go out at the end of December, use your credit card to buy $20,000 of computer and business equipment, take it back to your office and set it up. You can then deduct the full cost on your 2003 tax return, even though you won’t even receive the bill until 2004 and may even take several years to pay it completely off.

The bookkeeping entry is very basic. When you buy the asset, you will debit the fixed asset account for the item’s full cost and credit your bank account for any down payment and credit the loan or credit card for the financed portion.

Payments on the loan are also booked conventionally. The loan balance is debited for the principal portion of the payment and interest expense is debited for the interest portion of the payment. Payments on the loan have no effect on the cost basis (and depreciation – Sec. 179 expense) for that asset.

IRS Set to Resolve Disputes Online – I signed up for this service about a month ago after receiving an invitation from IRS. They said it would take six to eight weeks to activate my account; so I will report on how well it works once I am up and running with it. My big hope is that this will allow us to better track how IRS applies payments. It has long been frustrating trying to prepare tax returns when IRS has applied estimated tax payments to the wrong tax year. This has been happening more often, even when the clients have been writing the year on the face of their check. If this new system works as advertised, I may start verifying each payment with the IRS’s computer before posting it to my clients’ tax returns.